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Bajaj Auto: Getting the pulse right! - Views on News from Equitymaster
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Bajaj Auto: Getting the pulse right!
Jul 16, 2005

Introduction to results
Bajaj Auto announced its 1QFY06 results a short while ago. Both the topline and the bottomline registered another quarter of good growth, recording a 33% and 27% YoY increase respectively. However, owing to the rise in raw material expenses, the improvement in operating margins was capped to 80 basis points.

(Rs m) 1QFY05 1QFY06 Change
Net sales 12,261 16,342 33.3%
Expenditure 10,417 13,766 32.2%
Operating profit (EBDITA) 1,845 2,575 39.6%
Operating profit margin (%) 15.0% 15.8%  
Other income 1,064 928 -12.8%
Interest 2 1 -43.8%
Depreciation 462 462 0.1%
Profit before tax 2,446 3,040 24.3%
Extraordinary items (15) (11) -
Tax 800 950 18.8%
Profit after tax/(loss) 1,632 2,080 27.4%
Net profit margin (%) 13.3% 12.7%  
No. of shares (m) 101 101  
Diluted earnings per share (Rs)* 64.5 82.2  
P/E (x)   17  
(* annualised)      

What is the company’s business?
Bajaj Auto Limited, with a market share of 27% in FY05 (23% in FY04) is the second largest player in the two-wheeler industry. In FY05, the sales mix (in volume terms) consisted of 79% (last year 67%) motorcycles, 12% (last year 15%) three-wheelers and the rest 8% (last year 18%) step-thrus, ungeared scooters and geared scooters. Though the company has traditionally been a key player in the geared scooter segment, aggressive pricing coupled with a slew of new launches has resulted in a rise in market share in the motorcycle segment from 16% in FY00 to 27% in FY05. It has also entered into an agreement with Kawasaki for export of motorcycles to emerging markets.

What has driven the performance in 1QFY06?
Discovering a new rhythm:  As can be seen from the table below, the strategy of the company of concentrating on the motorcycle segment is paying rich dividends. It should be noted that last year, the company had launched new models/variants in all the motorcycle segments. ‘CT 100’ (launched in May 2004), the entry-level motorcycle, has enabled the company to increase its leadership position in this category. Just to put things in perspective, the share of Bajaj in this segment was 49% in FY05, as compared to 42% in FY04. We expect the product to perform well in the coming months due to lack of significant competition in this category. Apart from this, the company is upgrading its ‘CT 100’ model, which would be launched post its upgradation by September 2005. This could aid the demand for this model.

In the executive category, with the launch of ‘Discover’ in August 2004, the company has helped the company maintain market share. Though we do expect Hero Honda to maintain its leadership position in this category, we believe that Bajaj can outperform in this category given the strong brand equity of it’s products.

Segmental break-up
Segment 1QFY05 1QFY06 % change
Motorcycles 275,790 422,543 53.2%
Scooters-Geared 29,610 20,018 -32.4%
Scooters-Ungeared 7,816 8,258 5.7%
Step thrus 5,619 870 -84.5%
Total 2 wheelers 318,835 451,689 41.7%
Three-wheelers 54,080 53,311 -1.4%
Grand total 372,915 505,000 35.4%

In the three-wheeler segment, the company maintained its leadership position in the passenger category and has also gained market share in the goods carrier segment. It should be noted that Bajaj has been a relatively smaller player in this category. Going forward, we feel there is enough scope for expansion on this front and Bajaj, with the launch of new products, could capitalize on the same. However, we feel that the launch of Tata Motors’ ‘ACE’ could put challenge the company’s volume sales.

Raw material blues continue:  There has been no respite for the industry as a whole on the raw materials front. For Bajaj, during the quarter, raw material costs increased at a much faster rate as compared to the topline. While the rise in the cost of inputs like steel, rubber and plastics directly affected profitability, the inability of the company to pass on the same capped the margin expansion. Just to put things in perspective, the prices of steel have increased by around 25% to 30% in FY05. However, with continuous thrust on improving efficiencies, the company has been able to reduce the impact of rising raw material costs, which is evident from a 32% YoY increase in the overall operating costs despite the 41% YoY rise in the raw material costs (see table below). This enabled the company to improve its 1QFY06 operating margins, which improved by 80 basis points as compared to 1QFY05.

Cost break-up...
(Rs m) 1QFY05 1QFY06 Change
Raw materials 8,217 11591.4 41.1%
% sales 67.0% 70.9%  
Staff cost 690 731.8 6.1%
% sales 5.6% 4.5%  
Other expenses 1,510 1660.6 10.0%
% sales 12.3% 10.2%  

Have margins stabilized?  Going forward, competition in the two-wheeler segment is likely to intensify and hence manufacturers are likely to face pricing pressures, as any increase in costs might not be passed to the consumer, thus impacting the bottomline of the company. However, the current fall in steel prices will provide some cushion to the margins of the company as the same accounts for 45% of total operating costs. Apart from this, the company’s initiative on R&D front and employee rationalization will help protect margins to some extent.

What to expect?
At Rs 1,390, the stock is trading at price to earnings multiple of 16.9 times its 1QFY06 annualised earnings. We feel that volume sales will not be an issue for the company. Apart from this, considering the company’s thrust on geographical diversification and its strong cash position, we feel that it is well placed to withstand competition. Further, Bajaj’s agreement with Kawasaki, which already has a developed network in overseas market, whereby the latter will market the former’s product in the international markets would provide an added impetus to Bajaj’s exports plan. Further, the company is also contemplating the launch of new scooters in FY07 to increase its share in the scooter market.

Having said that, we have concerns over the company’s pricing power considering the 2% fall in average realisations of the motorcycle segment in FY05. This has been our main cause for concern, as a result of which we had to revise the price target for the stock downwards, which we maintain. However, at the time of the revision, we had not factored in the potential exports growth of the company and also the performance in scooter segment post the launch of its new products, as we would like to wait for the company to deliver on these fronts.

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